Business & Finance Perspectives

In a recent ruling by the U.S. Tax Court, two whistleblowers were awarded $17.8 million. This decision considerably increases the scope of what can be claimed, and could result in both larger awards and in more whistleblowers coming forward in the future.
The IRS whistleblower program allows individuals with information about tax violations to file claims with the IRS confidentially, and it rewards those individuals with up to 30% of what the government collects as a result. This decision marks the first time a whistleblower received a portion of the criminal fines, civil forfeitures, and taxes that the government recovered, and it eliminated any concern by whistleblowers that they would receive less if the IRS pursued criminal charges rather than just tax collection. Note this ruling is recent, and can be appealed by the IRS.
This was one of the largest awards ever. For context, award statistics for the most recent year show $103.5 million distributed in 99 awards.

In March of 2012, the U.S. Tax Court filed its memorandum of findings regarding a defined value clause used in the taxpayer’s gifting strategy in Wandry v. Commissioner (March 26, 2012). Not only was the decision a big win for the taxpayer, but the Tax Court provided guidance for drafting a successful defined value clause. The ruling is considered a landmark decision, because it allows tax-free ownership transfers from one generation to another with certainty and in an orderly manner."
The current tax regime imposes a gift tax of up to 35% when taxpayers give assets away, with exceptions. Individuals now get one $5.12 million lifetime exemption, and they can also give up to $13,000 of assets a year to an unlimited number of recipients. (In 2013 the lifetime break is scheduled to drop to $1 million and the top rate to rise to 55%.)
This means an owner who wants to give a business to children or others, such as employees, can use these exemptions to transfer ownership tax-free. He can even use the $13,000 annual exclusion to transfer value bit by bit.
In the Wandry case, Dean and Joanne Wandry, a Colorado couple, each gave units in a family-owned limited-liability company worth $1,099,000 to their heirs in 2004. To avoid paying tax, they specified the gifts should equal the dollar amount of their exemptions - a key point. (At the time of the original gifting, the lifetime exemption was $1 million and the annual exclusion $11,000.)
In Wandry, as in other cases, the givers have to get a professional appraisal if - as is common - the company is hard to value. The Internal Revenue Service can contest the appraisal after the gift, as it often does. In Wandry, the value rose about 20% after the IRS appraisal.
That brings up an important issue: If values rise after an IRS challenge, must the giver write a big check for tax on the amounts above the exemption? According to the Wandry decision, no. The judge held the couple intended to make a gift equal to their exemptions, so the excess was never actually given by them. No tax was due.
Prior to the Wandry decision, often the best outcome is for a family to designate a charity to receive the excess. No tax is due, but the family gives up some control. The Wandry case is a boon not only for business owners but also wealthy families with "family limited partnerships" or entities holding publicly traded stocks. Even though the stocks' value is easy to determine, submerging them in a nontraded company provides valuable discounts when units are transferred to heirs.
The IRS may appeal the decision, so taxpayers who rely on it run a risk.

A recent U.S. Tax Court case (Estate of Liljestrand) reminds us that proper planning is essential when forming a Family Limited Partnerhship (FLP). The Court included the FLP assets in the estate and hit the taxpayer for an additional $2.5 million in estate taxes. The Court stated a number of structural problems in their opinion such as failure to keep proper books and records, commingling of personal and FLP funds, and lack of a proper valuation. You can find more detail on Estate of Liljestrand in Trusts & Estates.
This case is just one more demonstration of the importance of careful planning and due diligence when your family's succession plan is at stake. Be sure to choose proven valuation and tax professionals that are well qualified to assist with the critical task of transferring wealth to the next generation.